Middle Australia wins from the government’s tax plan, but the budget is the biggest loser

Tang Yan Song/Shutterstock
Tang Yan Song/Shutterstock

The Albanese government decision to revise the Stage 3 tax cuts has ignited a political firestorm.

The government argues revising the plan to give bigger tax cuts to low-and middle-income earners struggling with the cost of living justifies breaking an election promise.

The opposition says the changes will make bracket creep worse in the long term because they will increase tax revenue by billion over 10 years, relative to the original Stage 3 tax cuts.

The short-term winners and losers from the new tax plan are well documented.

People with taxable incomes of less than about 6,486, or nearly 90% of all taxfilers, will get either the same or a larger tax cut under the new plan.

Whereas the 10% with the highest incomes will get smaller tax cuts than under the original Stage 3 plan. The tax cut for people who earn more than 0,000 a year will be roughly halved, from ,075 to ,529 a year.

Read more: Stage 3 stacks up: the rejigged tax cuts help fight bracket creep and boost middle and upper-middle households

Bracket creep will reduce the value of these tax cuts over time

Australia’s tax scales are not indexed to wages growth or inflation. That means as our incomes rise, Australians pay a higher proportion of their income in tax.

Even if wage growth doesn’t push a taxpayer into a new tax bracket, most taxpayers will still end up paying more tax, because a larger share of their income will be subject to their highest income tax rate.

Over time, this so-called “bracket creep” increases average tax rates across the income distribution as wages grow.

And one consequence of keeping the 37% tax bracket for incomes between 5,000 and 0,000 is average tax rates will rise more quickly for some upper-income earners than they would have under the original Stage 3.

The share of taxfilers with a taxable income between 5,000 and 0,000 is expected to rise from 7% in 2024-25 to 13% in 2033-34 due to bracket creep.

Middle Australia still wins in the long term too

Grattan Institute’s analysis shows the vast bulk of Australian taxpayers will benefit from the revised tax package, despite the impact of bracket creep over the next decade.

For example, the typical (that is, median) taxfiler, with a taxable income of about ,000 in 2024-25, can expect to pay 4 less in tax next year. As will someone on the average taxable income of about ,000 in 2024-25.

And both can expect to pay cumulatively ,040 less in tax over the next decade, compared to if the original Stage 3 tax cuts remained in place.

Overall, we estimate about 83% of taxfilers can expect to pay the same or less tax over the next decade than they would have under the original Stage 3 plan, despite the impact of bracket creep.

While the share of taxfilers facing a higher average tax rate each year under the new tax plan will grow over time – rising about the top 10% today to around 22% by 2033-34 – the accumulated savings over time means many higher-income earners will still be better off over the next decade.

But high-income earners will pay substantially more tax over the next decade under the government’s plan than under Stage 3.

Someone with a taxable income higher than 95% of all taxfilers – or about 7,000 in 2024-25 – will pay about ,000 more in tax over the decade than if the Stage 3 tax cuts remained in place.

The budget is the biggest loser

But the biggest loser from the new tax plan may end up being the federal budget.

The government’s tax plan is expected to cost the budget more than billion a year, or 1% of GDP. The Stage 3 plan would have cost about the same.

And the budgetary cost will be larger still if a future Coalition government were to keep the Stage 3 tax cuts for high-income earners and keep the bigger tax cuts for low and middle-income earners under Labor’s revised package.

That would increase the cost of the tax plan from billion a year to up to upwards of billion a year, and by up to an extra 5 billion over the decade.

The government’s tax plan will make it harder for this and future governments to meet community demands for more spending in areas such as healthcare, aged care, disability care, and defence.

These tax cuts could cost middle Australia more than it thinks.

Read more: The 2 main arguments against redesigning the Stage 3 tax cuts are wrong: here's why

Correction: the original version of this article referred to “tax payers” where it should have referred to “tax filers”.

Grattan Institute began with contributions to its endowment of million from each of the Federal and Victorian Governments, million from BHP Billiton, and Coalition set for Tuesday declaration on tax as Albanese defends reputation as ‘an honest person’ The opposition is set to declare its stance on Labor’s revamped tax cuts on Tuesday, after the government on Sunday released the legislation for the changes.

Shadow cabinet on Monday will consider the legislation, and it will go to the joint parties on Tuesday, the day it will be introduced into parliament.

The Coalition will try to amend the package but when its amendment fails it is expected to reluctantly wave the legislation through. If it does, that would render irrelevant the Greens, who are demanding changes and other concessions in return for support.

But there is division in Coalition ranks. Former frontbencher Julian Leeser said at the weekend he would be arguing that “we must stand for what we believe and we must oppose Labor’s attempts to ditch the [Coalition] legislated tax cuts”.

Anthony Albanese said the government wanted its legislation passed “during this session, which finishes up before Easter”. The new tax cuts will come in on July 1. If the legislation wasn’t passed in time, the old Stage 3 cuts, which favour higher income earners, would start operating from July 1.

The reworked tax cuts, which give all taxpayers a cut but are targeted to lower and middle income earners, are a central pitch by Labor for the March 2 Dunkley byelection.

Labor is buoyed by indications they are going down well in the community, giving the ABC party research showing strong support. The reworked package has the majority of taxpayers better off than the original Stage 3, but a minority get a smaller cut than they would have received.

Appearing on the ABC on Sunday, Albanese fended off questioning about whether breaking his promise to deliver the Coalition’s Stage 3 could be the thin end of the wedge, for example for changes to negative gearing.

Asked whether he thought the existing negative gearing rules were fair, he said: “Well, they make a difference for people. They’ve been there for a long time. There is a whole lot of analysis that says they encourage investment in housing”. He pointed out that “they’re not an equity measure, they are a supply measure”.

Pressed on whether his word was still his bond after the broken promise, Albanese said, “I’m an honest person. I am up-front.

"What I have done here is be very, very clear. And I’ve listened to people who are all saying […] to me, ‘Well, what are you doing about cost of living?’”

The tax cuts are set to be the main issue when federal parliament starts its sitting for the year on Tuesday.

But argument on another front has opened with the government announcing a fuel efficiency standard for new vehicles. This will work by providing car companies with targets for average emissions per kilometre for new vehicles sold, of the kind that that prevail in Europe, the US and Japan.

Energy Minister Chris Bowen and Transport Minister Catherine King said by introducing the standard the government was delivering more cars that were cheaper to run, and giving motorists choice.

The new rules would start on January 1 next year.

The opposition said in a statement, “Australian’s favourite vehicles could soon be unaffordable if Labor’s fuel efficiency standard fails to strike the correct balance between minimising costs, reducing emissions and maximising choice for all Australians”.

Read more: The embarrassingly easy, tax-free way for Australia to cut the cost of electric cars

This article is republished from The Conversation is the world's leading publisher of research-based news and analysis. A unique collaboration between academics and journalists. It was written by: Michelle Grattan, University of Canberra.

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Michelle Grattan does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.